If progressive politicians and journalists want to advocate for redistribution of income via 70% tax rates on high income earners, then just do it. But don’t use the argument that “income tax rates on the rich used to be much higher in the past” as justification for it, since the top 1% paid around the same amount relative to income back then as they do now.
Furthermore, if you want to argue for wealth taxes on households with assets over $50 mm (as Elizabeth Warren now proposes), then just do it. But if you are going to base the rationale for such taxes on work done by Saez/Piketty/Zucman, be aware of limitations in their work, and pointed questions about their assumptions and methodology from the US Treasury, the Federal Reserve, the Joint Committee on Taxation and professors at Columbia University.
By now I’m sure you’ve read articles on proposals for a 70% tax rate on income above certain thresholds. Progressive politicians and journalists have every right to advocate for such taxes as a way to redistribute income (to be clear, the US Federal income tax is already progressive, and remains so after adjusting for state and local taxes1). But when people base such measures on the notion that “we’re just returning to fairer tax rates that existed in the past”, this is pretty sloppy work, which is ironic since a lot of these individuals/articles blame others for distorting facts.
Yes, statutory tax rates on the top 1% of households used to be much higher. But this fact is almost useless without understanding what the rest of the tax code entailed regarding bracket levels2 and deductions. The CBO computes “effective tax rates”, which is a pretty simple concept: total taxes paid as a percentage of income. As shown in the first chart, when the top Federal statutory rate was 70% in 1979, effective income tax rates on the top 1% were roughly the same as they are today. Even Saez and Piketty (more on them later) show that effective tax rates on the top 1% were not much higher in the 1950’s when including all Federal, state and local income, payroll, property, excise and other taxes (second chart). Bottom line: history does not provide apples-to-apples precedent for 70% marginal tax rates, so people should stop saying it does3. Base your arguments on the future rather than on the past.
Wealth taxes. Senator Elizabeth Warren4 has announced a plan for a 2% annual “wealth tax” on household assets in excess of $50 mm (see Appendix on wealth tax constitutionality and possible de facto alternatives). As per a January Washington Post article, Warren’s plan is based on work done by Saez, Piketty and Zucman, some of whom are also advising Senator Warren directly. We have written about their work before, in September 20175. It turns out that wealth shares by income level are not easy to obtain, and can only be estimated using a lot of assumptions.
Economists at the Federal Reserve who also studied US wealth distribution issued a stark rebuttal of the Saez/Piketty analysis, expressing concern that little attention has been paid to their methodology or to the sensitivity of their results to changing assumptions6, and concluded that Saez’ methods can yield “improbable” results. Alternative approaches to deriving 1% wealth shares shown in the first chart also indicate high concentrations of wealth, but they may not have changed much at all since the 1960s, in contrast to the Saez/Piketty analysis.
Researchers have also taken another look at Saez’ work on income inequality. In another rebuttal, economists from the US Treasury and the Joint Committee on Taxation present a very different picture of income inequality than widely-cited Saez/Piketty results7, as shown in the 2nd chart. Treasury/JCT authors claim a more accurate measurement of income; remove distortions from changing tax laws affecting the number of filers; and expand the definition of income. They conclude by citing an increase in income inequality since 1960 that is just one tenth of Saez/Piketty findings. Here’s how the Treasury/JCT paper describes Saez’ use of unadjusted tax returns to derive income levels: “These results show that unadjusted tax return based measures present a distorted view of inequality trends, as incomes reported on tax returns are sensitive to changes in tax laws and ignore income sources outside the individual tax system.”
Appendix: On the constitutionality of wealth taxes and de facto alternatives
The first reaction many people have to idea of wealth taxes: “they’re probably unconstitutional”, since the 16th Amendment only sanctions income taxes, and prior Constitutional provisions preclude taxes on the states that are not apportioned back in the same ratio. However, some tax scholars have already identified de facto alternatives to a wealth tax using Wealth Integration Methods. The simple explanation: instead of taxing wealth directly, wealth is used as an input into income tax calculations to get to roughly the same place. This approach might seem just like a Wealth Tax, but a recent paper from a law professor at Ohio State discounts possible Constitutional objections to Wealth Integration Taxes, arguing that they are not precluded by the 16th Amendment, and that to reject them would require the Courts to overturn settled precedent11. The author goes so far as to say that since the Courts are likely to accept Wealth Integration Taxation methods, they might as well just allow Congress to tax wealth directly. Welcome to 2019. Likely candidates for a Wealth Integration Tax: deduction phase-outs based on wealth, and/or increasing marginal tax rates based on wealth levels. Furthermore, the definition of wealth could require liquid assets to be valued on a mark-to-market basis, subjecting taxpayers to de facto wealth taxes whether or not assets are sold; and for these households, income and capital gains tax rates will probably be unified at the same level.
2 For example, in 1955, the top tax bracket was applied at $3.5 mm in today’s dollars, compared to $466 k today.
3 Something that has changed since the 1960’s: the balance between entitlement spending and discretionary spending programs that fuel growth (job retraining, infrastructure, renewable energy R&D, etc). In the 1960’s, the Federal government spent $0.60 on entitlements for every dollar spent on discretionary programs. Currently, the government spends $3.30 per dollar, and is projected to spend $4.50 per dollar by 2025 (CBO).
4 Senator Warren also proposes something called the Accountable Capitalism Act, which would establish a “US Federal Office of US Corporations” that would be empowered to grant and revoke charters for public companies based on whether they generate a “general public benefit” and “a material positive impact on society.”
5 “A Revised Look at Wealth and Income Inequality”, Eye on the Market, September 5, 2017.
6 “Measuring Income and Wealth at the Top Using Administrative and Survey Data”, Bricker et al (Federal Reserve Board), Brookings Papers on Economic Activity, Spring 2016. For a similar critique of Saez wealth percentiles, see “What do we know about the evolution of top wealth shares in the US”, Kopczuk (Columbia), 2015.
7 “Using Tax Data to Measure Long-Term Trends in U.S. Income Inequality”, Auten (US Treasury) and Splinter (Joint Committee on Taxation), Dec 2016. According to Treasury/JCT authors, their analysis accounts for ~ 90% of total income, compared to 60%-70% for Saez/Piketty, and adjusts for distortions resulting from the 1986 Tax Reform Act.
8 Many topics assessed by the Post are not cut and dried facts, and require interpretations and judgments that not everyone will agree with (I didn’t). Even so, the spirit of what they found has been seconded by James Pfiffner (author of a dozen books on the Presidency and a Professor of Public Policy at conservative George Mason University), and George Edwards at Texas A&M (a political scientist who edits the scholarly journal Presidential Studies Quarterly).
Related Wash Post FactChecker topic: a NY congresswoman attacked the Post after it contradicted her claims on minimum wage workers, tweeting that the Post’s source served “corporate interests”. The study was actually from Jason Furman (Council of Economic Advisors under Obama). The Washington Post response: “Don’t always believe what you see on Twitter”. No one’s work is exempt from derision if it does not support the desired policy outcome.
9 President Obama repeatedly said, “if you like your healthcare plan, you can keep it” in regards to the Affordable Care Act. PolitiFact bestowed the 2013 “Lie of the Year” honor to Obama for this statement.
11 “A Constitutional Wealth Tax”, A. Glogower (Ohio State Moritz College of Law), January 2019. Examples cited by the author of wealth taxes that already exist: the 2017 tax bill, which disallows corporate income tax deductions of FDIC Deposit Insurance Payments based on the amount of bank assets, and also applies different tax rates to foreign sourced income based on the amount of a company’s qualified asset investments; and Section 1202, which allows capital gains tax exclusions based on the amount of qualified small business assets.